Question 3 POSITIVE ACCOUNTING THEORY (20 Marks)

Part A: Credit crunch in small business lending Glenn Otto, associate professor of the School of Economics at UNSW Australia Business School says the threat of a credit crunch for small business funding is real. A large percentage of SME (small-to-medium enterprise) finance comes via bank lending, Otto says. Corporates have other sources of operating funds, but SMEs do not. Therefore, if there was a tightening of rules around lending to small businesses, they wouldnt have many outside options. That could have a significant effect on these enterprises. ()7
Required To reduce their lending risk, briefly outline: two conditions which commercial banks should include in their loan agreements with SMEs. the specific agency problems that each condition in (i) above is designed tO reduce.	4 marks 4 marks
Part B Company X has recently appointed a new Chief Executive Officer (CEO). Apart from her base salary, she is also entitled to a bonus based on company profits.
Required Using Agency Theory, explain why the CEO is paid a base salary. The CEO may try to maximize her bonus at the expense of the companys long-term future. Suggest how shareholders can discourage such behavior. Briefly outline how the CEOs behavior will be constrained by the market for managers.	2 marks 2 marks 2 marks
Part C Company Y provides telecommunication services throughout the country. It has reported profits in excess of $20 million for the last few years.
Required Using the political cost hypothesis, predict how Company Y may reduce the threat of special taxes. Apart from special taxes, briefly outline two political costs which may be imposed on Company Y.	2 marks 4 marks